Hudson’s Bay takes upscale lead with Saks deal

A Hudson’s Bay Co. store sign is shown in Toronto on Monday, July 29, 2013. Hudson’s Bay Co. (TSX:HBC) says it will open up to seven full-line Saks stores in Canada and about two dozen locations under a discount banner once it completes a $2.9-billion friendly deal to acquire the U.S. luxury retailer.

HBC plans to open six to seven Saks stores in Canada by next year, converting existing stores or building new ones after announcing a deal yesterday to buy the New York-based chain for $16 a share. The Toronto company, descended from a 17th-century beaver-pelt trading firm, plans to open as many as 25 Saks Off 5th discount luxury retail locations.

The prime downtown locations of Hudson’s Bay provides Saks an edge in the contest for luxury market consumers as Canada’s condominium-buying population gravitates to cities. Seattle-based Nordstrom Inc. is set to arrive in 2014.

“We’re going to be able to roll out our Saks stores at a small fraction of what it will cost Nordstrom to open a store,” Hudson’s Bay Chief Executive Officer Richard Baker said yesterday in an interview.

HBC, Canada’s biggest department store chain, may also open Saks locations close to rival Canadian luxury retailer Holt Renfrew, including on Bloor Street in Toronto, where Holt is based, Baker, 48 said. Holt, which has been in business since 1837, is owned by Hilary and W G Galen Weston. W G Galen Weston, Canada’s second-richest man, is chairman of George Weston Ltd., the bakery company that controls grocer Loblaw Cos.

Suburban, urban

“Hudson’s Bay Company has got these locations in downtown spots, there’s a huge push right now from suburban to urban,” said John Crombie, national retail director at Cushman & Wakefield Ltd. “Hudson’s Bay has really got a lot more opportunities there than Nordstrom would ever see.”

HBC is paying about nine times Saks’s earnings before interest, taxes, depreciation and amortization on an equity basis, compared with a median multiple of eight for similar deals compiled by Bloomberg.

HBC rose 8.6 per cent in the two days after the announcement to close at a record high of $17.90 in Toronto today. The shares have risen 7.3 per cent since the company’s initial public offering in November. Saks has risen 4.6 per cent since the announcement to $16.02 at the close in New York for a rise of 52 per cent this year.

Nordstrom coming

The transaction is the latest in a string of retail deals in Canada. Loblaw agreed to buy Shoppers Drug Mart Corp. for $12.4 billion this month; Sobeys Inc. purchased Safeway Inc.’s Canadian grocery stores for $5.8 billion; Target Corp. plans to open 124 stores this year and Wal-Mart Stores Inc. is adding 37 locations as competition for Canadian spending heats up.

Nordstrom will open its first store in Calgary in the autumn of 2014, with four more locations planned for major urban centers like Vancouver, Montreal and Toronto. Nordstrom will also open 15 to 20 Nordstrom Rack discount retail locations, Karen McKibbin, president of Nordstrom Canada said in a July 16 interview.

“Over the years we’ve found that increased competition is not only best for the customer but one of the best ways to help us raise our game,” Colin Johnson, a spokesman for Nordstrom in Seattle, said in an email yesterday.

Julie D’Uva, a spokeswoman for Holt Renfrew, said no one was available to comment on the transaction yesterday.

Nordstrom won’t be able to offer the TopShop brand at its Canadian locations as it does in the U.S., McKibbin said. Hudson’s Bay has an exclusivity contract with the U.K. brand.

Luxury antidote

“Hudson’s Bay Company could use the Saks banner and brand selectively in Canada as a Nordstrom, Simon, Holt Renfrew antidote,” said Tal Woolley, an analyst at RBC Capital Markets in a note to clients dated June 25, before the deal was finalized. Woolley said Saks would enable Hudson’s Bay to “pursue a more aggressive off-price strategy with Off 5th, allowing Hudson’s Bay Company to compete more effectively at the higher end of the market.”

HBC will also increase its U.S. presence with the deal, which will add 41 Saks stores and 67 Saks Off 5th stores to its 48 U.S. Lord & Taylor stores and 90 Hudson’s Bay stores in Canada, said Wayne Kozun, senior vice president of public equities at Ontario Teachers’ Pension Plan, which will own 17 percent of HBC if the deal is completed. Ontario Teachers’ and funds advised by West Face Capital Inc. will provide HBC with $500 million and $250 million of equity funding, respectively, to support the transaction, according to the statement yesterday.

‘Iconic brand’

“We think this is a great opportunity to buy what is in Canada a very iconic brand and to help them leverage themselves to become a much bigger player,” in North America, Kozun said in a phone interview yesterday from Toronto. Baker has done a great job at “reinvigorating” the HBC brand by bringing a new generation of customers into the stores, he said.

Baker over the past seven years has acquired and refreshed retail chains while leveraging their real estate. Baker and NRDC Equity Partners LLC, agreed to buy Hudson’s Bay in 2008, investing $500 million in new equity.

He hired Bonnie Brooks as president and put her in charge of The Bay after Brooks engineered the turnaround of Hong Kong- based department store Lane Crawford Joyce Group. Under Brooks, Hudson’s Bay has upgraded and modernized its stores while replacing under-performing brands with stronger ones.

HBC reported a loss of $80.7 million on sales of $884 million in the first quarter of 2013 compared with a $129.7-million loss on sales of $848.2 million in the year-ago period.

Dividend redirect

HBC will reduce its quarterly dividend to $0.05 per share from $0.0937 per share after closing the acquisition, with the intention of directing cash flow to reducing debt, according to a company statement.

Saks trails Neiman Marcus and Nordstrom in key metrics including sales per square foot because Saks over-expanded last decade and is saddled with some under-performing stores. Saks posted revenue of $3.15 billion last year, short of the $3.28 billion it recorded in the retail year that ended in early 2008. Chief Executive Officer Stephen Sadove has been closing the chain’s underperforming branches. It now operates 41 namesake stores, compared with 54 in early 2007.

Saks will continue to be based in New York and retain its existing management, Baker said yesterday. While the newly merged entity will combine back-office operations to save costs, the three chains will retain separate buying operations so the merchandise will reflect each brand’s identity, Baker said.

Considering REIT

HBC will evaluate creating a real estate investment trust with the combined portfolio of the three main retail nameplates it will now own, according to the statement yesterday.

Spinning out the retail properties into a real estate investment trust will help increase returns to investors and makes it a more attractive investment for Ontario Teachers’, Kozun said.

“The key to the deal is Saks’ real estate, valued at $1.5 billion,” said Perry Caicco, an analyst at CIBC World Markets, in a note to clients on July 30. Saks’ real estate was acquired at 10.7 times earnings before interest, taxes, depreciation and amortization and can be “spun into a REIT at a much higher multiple,” Caicco said.

“Should the company elect to spin-out a REIT, we believe leverage reduction will be accelerated,” Derek Dley, an analyst with Canaccord Genuity Corp., said in a note to clients July 30. Dley estimates the total REIT value to be C$3.8 billion with an estimated REIT value per share of C$11.77.

REITs, which are taxed differently than companies by the government, invest in income-producing real estate and pay out most of their income to investors through unit distributions. The Standard & Poor’s 500 REIT index has risen 3.8 per cent over the past 12 months compared with a 22 per cent gain in the broad S&P 500 stock guage. The S&P/TSX REIT index has dropped 12 per cent over the same period.

Including debt, the transaction is valued at $2.9 billion. Hudson’s Bay, founded in 1670, expects the deal to produce C$100 million in cost savings within three years. Saks hired Goldman Sachs Group Inc. in May to explore strategic alternatives, including a sale.

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A Hudson’s Bay Co. store sign is shown in Toronto on Monday, July 29, 2013. Hudson’s Bay Co. (TSX:HBC) says it will open up to seven full-line Saks stores in Canada and about two dozen locations under a discount banner once it completes a $2.9-billion friendly deal to acquire the U.S. luxury retailer.

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